Newell Brands Q4 Earnings: Will This Time Be Different?

Thesis

Long-term observers of Newell Brands (NASDAQ:NWL) have been waiting for the past horrors of significant core sales and profitability declines to end. This time could be different, with a new CEO and Project Phoenix underway. The bull case is that NWL can expand EBITDA margins moving forward driven by its restructuring program. The bear case is history repeats itself and investing in NWL stock is none other than another attempt of catching a falling knife. I put the likelihood of both cases at 50/50 today. However, if we take into account the valuation (13x forward P/E), I would say the odds are against us as we do not have any margin of safety here. As such, the recommendation is to wait more evidence that the new CEO and execute as guided and growth will reignite in 2H23.

Challenging growth in the near term

The poor results for 4Q22 were consistent with my expectations, given the difficult macroeconomic environment and the ongoing de-stocking by retailers. Looking ahead to 2023, management believes the difficult environment will persist and expects that consumer to spend less on discretionary items. Consumers in Europe, in particular, are faring much worse than their American counterparts, and this disparity is having a negative impact on demand for general merchandise categories. The growth normalization of home and outdoor goods is also expected to contribute to the soft demand. As such, management has warned of a more challenging 1H23, which I agree, especially due to consumers shifting spending away from discretionary items, NWL lapsing tougher comps in 1H23, and the ongoing de-stocking. Accordingly, I don’t anticipate a turnaround, recovery, or improved performance until the second half of 2H23. Depending on the strength and speed of the recovery, FY23 revenue could be inching toward a modest decline (mid to high single digits), with positive growth not appearing until FY24.

Margin

Reductions in fixed cost, FX headwinds, and inflation more than cancelled out gains in gross margins from higher prices and increased productivity, bringing gross margin for 4Q22 to 26.6%. Notably, in order to standardize the company’s inventory accounting, NWL switched from using the LIFO method to the FIFO method, which resulted in an additional $4 million headwind to COGS for 4Q22. Operating margin can in at 4.9%. This represents a year-over-year decrease of 507 basis points, which was caused by the downward influence of gross margin pressures, as well as the effect of decreased revenue on SG&A.

Looking forward, I expect that decreasing commodity and transportation/freight prices will have a positive impact gross margin. Management also noted that cost cutting measures, price increases in existing markets, and new price hikes in emerging markets will more than counteract inflationary pressures. As a result of higher overhead expenses, improved gross margin is expected to be more than muted, leading to normalized EBIT margin to be to be flat to down 50bps y/y. It was also stated that the $140 million to $160 million pre-tax savings from Project Phoenix to be offset by normalized compensation, pressure from labour cost, and reinvestments. Importantly, management noted that 1H23 would be worse than the 2H23), with FX and inflation headwinds expected to be worse in 2H23, and greater positive impacts from Project Phoenix expected in 2H23. A deleveraging of fixed costs due to inflation and FX headwinds, along with margin pressure and higher anticipated interest expense, has led management to forecast a normalized operating margin of 3% to 3.5% for the first quarter. However, I should point out that 1Q22 is also the smallest quarter for NWL according to seasonal trends.

New CEO

Chris Peterson, current President of NWL and former Chief Financial Officer, will succeed Ravi Saligram as CEO upon his retirement in May. As with the majority of investors and the general consensus, I do not find this development surprising. I am confident in Peterson’s abilities and confident that he will not ruin the company. According to the commentary, however, NWL will consider additional strategic and portfolio changes under a new CEO, but not groundbreaking ones. There is an expectation that this “new” strategy will develop out of the established ones, rather than completely replace them.

Update on restructuring program

NWL updated investors on the progress of its Project Phoenix restructuring program, which aims to streamline the company’s operations in order to cut costs in response to a more challenging business climate. To streamline operations and reporting, NWL will reduce its current five business units down to three under the new plan. In my opinion, the program is all-encompassing because it streamlines the organization, consolidates the supply chain, changes to a unified go-to-market model in the primary international markets, and drastically cuts administrative costs. In addition, NWL is consolidating its top-four customer sales efforts. I think all these will have a significant monetary impact. Management expects pre-tax savings of $220–250 million annually, which is roughly 25% of the profit base in 2022. It’s worth noting that by the end of 2023, this program should be close to completion.

In my opinion, the program is a net positive for NWL because it will help the company save money and make its operations more straightforward, both of which are ways in which the company can better withstand the external pressures that have been mounting recently. That said, the risk of poor execution is substantial, especially in the current uncertain political and economic climate. There is little room for surprise, but plenty of room for “misses,” because the majority of the savings are already factored into the 2023 guidance. This is especially true when thinking about the many successful restructurings NWL has undergone over the past two decades. Therefore, caution is warranted.

Guidance

The $0.95 to $1.08 range that NWL guided for 2023 was significantly lower than the consensus estimate of $1.43. In my opinion, Peterson is taking this step to reset investor expectations, allowing NWL more room to “beat” guidance. With stronger gross margins being offset by overhead costs, management expects a 6% to 8% drop in sales for FY23 (in-line with my expectations), with normalized operating margin staying flat or slightly declining. Management also guided that adjusted EPS will be in the range of $0.95 and $1.08, which is significantly lower than the previous consensus estimates

Conclusion

I am cautiously optimistic about NWL but think that investors should wait for more evidence of the new CEO’s ability to execute and for growth to reignite in 2H23. In the near term, management expects a challenging 1H23, with consumers spending less on discretionary items, and warns of a more difficult environment with margin pressure, inflation, and FX headwinds. However, decreasing commodity and transportation/freight prices to have a positive impact on gross margins, and that cost-cutting measures and price increases should counteract inflationary pressures. As for Project Phoenix, I believe that the program will help the company save money and make its operations more straightforward, but note the risk of poor execution in the current uncertain political and economic climate.